In Friday, March 31, about 30 of the world’s biggest and most expensive sailing yachts gathered off the coast of Saint Barth’s, an island playground for the rich and famous in the southeastern Caribbean, to compete in the annual St. Barth’s Bucket Regatta. By the end of the three-day event, which featured a surprise appearance by News Corp. chairman Rupert Murdoch’s 184-foot Perini ketch and was taken in by such landlubbing luminaries as TV host David Letterman and actress Uma Thurman, first place had been taken by an owner virtually unknown to the A-list crowd: Mickey Gooch.
Mickey who?
The founder and chief executive of GFI Group, a New York fixed-income and derivatives brokerage, Michael Gooch became captivated by the race when he spent his 20th wedding anniversary in Saint Barth’s two years ago. In November 2005 he plunked down a reported $13 million for the Antara, a 151-foot Perini ketch that boasts a generous dining area and four staterooms. A few months later he was back in the island paradise, helping sail the giant vessel to victory.
“Our success was entirely down to the crew, the captain and to our strategist,” says Gooch modestly.
His unlikely ascent in the yachting world is nothing new. The 47-year-old has made a highly lucrative career as an outsider finding his way into other rarefied arenas — sophisticated financial markets. Since founding GFI with just four employees in 1987, Gooch has built the firm into the dominant interdealer broker of Wall Street’s hottest product: credit derivatives. These instruments allow investors to buy protection against the risk of corporations defaulting on bonds and loans. Today the notional value of outstanding credit derivatives is more than $17 trillion, up from virtually nothing in the late 1990s, according to the International Derivatives and Swaps Association. GFI executes trades between big securities dealers like Goldman Sachs Group and Deutsche Bank — which, because they are such fierce competitors, often prefer to trade with a neutral party like GFI, which does not pursue the same customers, rather than directly with one another.
GFI today has more than 1,200 employees who act as middlemen for 150 different products — ranging from government bonds and currency options to commodities and property derivatives — from offices in New York, London, Paris, Tokyo, Singapore, Sydney and Englewood, New Jersey. It competes primarily with rival interdealer brokers ICAP, TullettPrebon, Creditex Group, Tradition Financial Services and BGC Partners (formerly known as Cantor Fitzgerald) but also operates an equity division that brokers stock and equity derivatives transactions directly for hedge funds and other institutional investors. (There is no interdealer market for these products.)
But GFI’s biggest claim to fame — and fortune — is its leading position in credit derivatives. Gooch was early to carve out a niche as a broker of these instruments, and today his firm handles 40 percent of interdealer trades in the booming market, far outshining London-based ICAP, which has a 30 percent share, as well as smaller rivals Creditex and TullettPrebon. And as the market for credit derivatives has mushroomed, so too have GFI’s finances. During the six years through 2005, revenues grew at a rate of more than 80 percent per year, to $587 million. In January 2005 the firm went public on the Nasdaq Stock Market. Since then its market capitalization has doubled, to $1.5 billion.
Born to a family of modest means in the suburbs east of London, Gooch got a job out of high school at an accounting firm, determined to follow in the footsteps of two uncles by studying to be a chartered accountant. Then he made friends with some currency brokers at the local pub. Just 18, Gooch couldn’t help but notice on his way to work every morning that one of his new mates was parking a shiny E-Type Jaguar at the train station before heading into the City of London.
“The lifestyle appealed,” recalls Gooch. “Relative to accountants, brokers made more money.”
In 1978, Gooch applied to Tullett & Riley Co., a prominent foreign exchange broker and predecessor to modern-day GFI rival TullettPrebon. In just a few months, he advanced from trainee to head of his own desk and was dispatched to expand Tullett’s business in New York. Within a decade Gooch established himself as one of the industry’s most plugged-in currency brokers, one who constantly sought out new, inefficient markets in which to profit by matching up buyers and sellers.
Since then he has refused to sit still. Shortly after he founded GFI, the firm became the first American interdealer broker to trade options on U.S. government bonds and mortgage-backed securities. It expanded rapidly, first to London, then to the booming over-the-counter derivatives markets. Apart from being early into credit derivatives, Gooch has distinguished his firm from competitors by investing heavily in technology but not relying completely upon it. GFI was among the first to offer clients sophisticated, electronic analytics to help with trading strategies while making sure to recruit and retain the savviest brokers, who can help customers execute tricky trades in illiquid markets.
“Mickey is unique,” says Christopher Pike, a partner at Boston private equity firm Advent International Corp., which bought a minority stake in GFI in 2002. “Most entrepreneurs could not take a business as far as Mickey has taken GFI. He has real vision.”
Along the way, Gooch has become an extraordinarily rich man, even by Wall Street standards. In 2005 he earned a relatively modest $1.5 million in salary, bonus and restricted stock. But his 47 percent stake in GFI is valued at a whopping $700 million. (Since January he has sold shares worth $128 million.) In addition to the Antara, he has a fleet of sports cars — including a 1965 Shelby Cobra (he briefly owned a Jaguar XJ8) — and a sprawling estate on the Navesink River in tony Rumson, New Jersey. In 2004 he and wife Diane bought the local weekly newspaper, the Two River Times, from tabloid television personality Geraldo Rivera. Diane is the publisher. The conservative-leaning Gooch writes a weekly column, “Beside the Point,” in which he weighs in on local issues while sharing liberally the details of his day-to-day life. (One recent column announced that he had embarked on a fitness program after reaching his all-time high body weight; in another Gooch reveled in patriotism upon celebrating his first Independence Day after becoming a U.S. citizen in November; for excerpts, see opposite page.)
But Gooch will need to stay focused on business to keep his spectacular run going. As the credit derivatives market grows, it is becoming more efficient and competitive, and in time, that could squeeze the profits of middlemen like GFI. Already the firm has slashed commissions for credit derivative index trades, which currently account for about 20 percent of the market and constitute its fastest-growing segment. It is also offering automated execution of index trades, but encountering stiff competition from both ICAP and New York–based Creditex, which last month strengthened its position globally by acquiring London rival CreditTrade. Another threat comes from derivatives exchanges, such as Frankfurt-based Eurex and the Chicago Mercantile Exchange, which boasts a $16 billion market capitalization — more than ten times that of GFI.
“The market has become more competitive,” says Citigroup equity analyst Donald Fandetti, “and it will continue in that direction.”
Gooch believes that demand for credit derivatives will keep growing among hedge funds and other money managers, fueling his customers’ trading activity for years to come. But he’s also preparing for a world in which more trades will be executed electronically. And he continues to extend GFI’s growth frontier by hiring brokers to arrange trades in still-more-esoteric and fast-growing trading markets, such as dry freight and carbon emissions.
Gooch has long been in a hurry to succeed. When he interviewed with Tullett & Riley in 1978, he noticed that firm founder Derek Tullett appeared most interested in the fact that he had attended Westcliff High School for Boys, which, unusually for a state school, has squash courts. A squash enthusiast, Tullett believed that the skills inherent in one-on-one competition prepared young men well for the cut and thrust of brokerage. Gooch faked his way through the squash talk and didn’t let on until he’d proved himself at the firm that he wasn’t much of a player.
“He had tremendous self-confidence and was also extremely charming,” recalls Tullett, now retired.
Gooch also benefited from good luck. As a trainee he was assigned to a desk that traded forward contracts on French francs, a sleepy backwater that saw little business; others in his class got seemingly plum assignments on the firm’s busiest desks. These young men spent their days recording trades on clipboards and fetching coffee and sandwiches for brokers. Gooch, on the other hand, had plenty of time to learn about the markets and how to serve customers.
“I got a really good grounding on how foreign exchange worked while the other poor guy was making the coffees,” he recalls.
In mock-brokerage sessions held for trainees after hours, Gooch quickly stood out. Within weeks he moved to the prestigious forward sterling desk alongside Tullett. After a few more months, Tullett sent him to New York to set up a Canadian currency desk. It was a good time to be a forex broker: In 1979 the Bank of England and the U.S. Federal Reserve lifted restrictions on currency trading by banks, sending volume surging.
In 1981, Gooch decided to try his hand at foreign exchange trading, joining Citibank in Canada. He quickly discovered that his skills lay elsewhere — he was too inexperienced in the markets and lacked the macro views that trading demanded, he says. He decided to return to the brokerage business, but Tullett & Riley had a policy of not rehiring departed brokers, so in 1982 Gooch returned to New York with competing British brokerage Harlow Meyer Savage.
Constantly looking for the next hot market, Gooch bought a seat that year on the Philadelphia Stock Exchange, which had just started trading in currency options. Harlow Meyer wouldn’t start an interdealer brokerage desk in the instruments, so Gooch left for a firm that would: Bierbaum Group. His desk took off, but the firm soon completed a tumultuous merger with competitor R.P. Martin. Frustrated by the internal turmoil, Gooch moved to Refco Group in New York, where he worked on a U.S. government bond option desk.
Even as he hopped from firm to firm, Gooch solidified his reputation with clients as a standout broker. In the 1980s interdealer brokerage was a rough-and-tumble business. Many brokers lacked college educations and won business by lavishing clients with sports tickets and expensive meals rather than market know-how. Gooch had an uncanny knack for the markets — for who owned what, how clients liked to trade and where prices were going.
“Mickey had charm, wit and intelligence,” says Geoffrey Kalish, who traded currencies and debt for Drexel Burnham Lambert at the time and is now a venture capitalist and a GFI director. “There was a difference with the guy.”
In 1986 two traders on Gooch’s desk suffered big losses on a $30 million deutsche mark position. Phillip Bennett, the ex-Refco CEO now awaiting trial on securities fraud charges (he has pleaded innocent), then oversaw the desk. He decided to close it down. Gooch, who had been considering starting his own firm for quite some time, decided to pull the trigger. Bennett not only gave Gooch his blessing, he also made him whole for his year-end bonus.
Just 28 and already a veteran of five firms, Gooch started GFI as a tiny interdealer broker of U.S. Treasury bonds and mortgage-backed securities. Almost immediately, he learned a lesson that would color his strategy for years to come: Offering clients computerized market data and analytics is critical, but controlling that data yourself is even more important.
In its early days GFI used the Telerate system to send bond prices to clients. But Telerate’s parent company, rival interdealer broker Cantor Fitzgerald, subsequently invoked its exclusive rights to distribute government bond data over the system, essentially kicking GFI off the network. Gooch hired a programmer and spent $2 million developing GFI’s own price-distribution platform. The investment was huge for a start-up, but it paid off. GFI soon began using the system to post prices for non-U.S. stocks and American depositary receipts and built a growing business in those markets. In 1988 it opened a London office and added U.K. bond option and repurchase agreement prices.
“In some respects Cantor hurt themselves by pushing us off Telerate,” says Gooch. “They forced us to invest in technology that actually helped us grow the business.”
During the next decade, as financial institutions and corporations began flocking to the over-the-counter derivatives market to manage interest rate and foreign exchange risks, GFI saw a huge opportunity. Instead of focusing on the biggest, most commoditized products, such as interest rate swaps, Gooch chose to steal a march on rivals such as Cantor and Tullett by plunging into more complex niches, including, most significantly, credit derivatives.
“Mickey was determined to get into a product at an early stage,” says Donald Fewer, GFI’s CEO of the Americas, who joined the firm from New York brokerage Garvin Guy Butler Corp. in 1996 to establish a credit derivatives desk.
Banks first developed credit derivatives in the early 1990s to hedge their loan portfolios. The most common type is a credit default swap, or CDS, a contract that pays the buyer if a company defaults on its debt. By the late 1990s investors began using the swaps to hedge their own positions and to speculate. Hedge funds have been especially voracious in their appetites for the instruments. GFI reaped the benefits of being a pioneer in CDS brokerage, reaching $100 million in revenues by 1999.
Gooch was quick to invest in technology. In 1998, with the Telerate standoff still fresh in his mind, he directed GFI to create a real-time derivatives pricing platform. A year later he founded GFInet, a subsidiary that offered voice-assisted and electronic brokerage for foreign exchange, energy and telecommunications derivatives. In May 2000, just as the dot-com bubble was bursting, GFInet raised $27 million from venture capital firms, including Kalish’s Venturion Capital. But Gooch merged the money-losing venture into GFI in 2001 when it couldn’t attract more financing.
In June 2002, Gooch wanted to raise capital to expand into new markets and diversify his firm’s business. He sold 7.9 percent of GFI to buyout firm Advent for $34 million. In 2003, Gooch and Fewer decided to build an equities business, in part to diversify the firm’s revenues. Seeking an edge in a low-margin business dominated by a handful of giant brokers, the firm focused on the convergence between debt and equities, which banks and hedge funds were beginning to explore. A new breed of traders was making bets on pricing disparities between companies’ debt and equity securities, as well as derivatives based on both — a discipline called capital structure arbitrage. GFI hired brokers with experience in both markets and provided sophisticated analytical tools to these clients.
GFI last year pulled in $116 million — 22 percent of total revenues — from equity transactions. That was up from $69 million in 2003. But 41 percent of revenues still come from credit products. (The remainder is from interest rate swaps, currencies, commodities and other products.) Opportunities in that portion of the business have been plentiful: The credit derivatives market nearly quintupled in size between 2003 and 2005, fueled by a string of postbubble bankruptcies and defaults at companies such as Enron Corp. and WorldCom.
But as the market matures, trading is becoming more efficient and competition is sharper, with newcomers offering innovative technology that threatens to marginalize the role of traditional brokerage — or at least make it less profitable. Creditex, for example, operates an online quoting and execution platform, backed by voice brokers, for credit default swaps. In 2004, Creditex began executing big index-contract trades for just $500 per side, forcing GFI to cut its rates for similar trades from $2,500 per side. Creditex, the leader in electronic credit derivatives trading in Europe, has become a more formidable competitor by merging with CreditTrade, which has a small but strong presence in voice trading in New York.
“The merger positions us to have an effective hybrid strategy and to provide the best execution and processing services in the market,” says Mazy Dar, head of strategy and electronic platforms at Creditex.
ICAP, which briefly charged nothing for index trades on its BrokerTec platform in early 2005, also appears to be gaining ground, particularly in so-called structured credit default swaps, which are more complex than contracts that offer protection against a single company going belly-up. “There’s no question we are gaining market share in credit derivatives,” says ICAP executive director Steven McDermott, who estimates that his firm controls close to a quarter of the market for structured trades, up from zero one year ago (independent figures are unavailable).
Another innovator is IDX Capital, an interdealer brokerage founded in December by ex–J.P. Morgan Chase & Co. executive James Mirenda. IDX’s unique “aggressor-only” pricing model charges a commission only to the party that initiates the trade, a policy that it says halves transaction costs.
Though Gooch recognizes that once-esoteric products can become commoditized, he believes that GFI has critical advantages over these upstarts: Its extensive customer relationships mean it is far more likely to provide liquidity for clients, especially on the toughest trades, and it has invested heavily in analytics to support customers.
But he’s also hedging his bets with an electronic CDS trading platform called CreditMatch. Banks can use it to trade entirely on-screen but can also call brokers for assistance with big, complex trades. GFI charges a lower commission rate for electronic trades. But, notes Gooch, the volume of broker-assisted trades has continued to rise since GFI began rolling out the system in September 2004.
Another potential threat is from exchanges. The CME, which has seen its shares soar by 1,250 percent since its December 2002 IPO, thanks largely to an increase in electronic trading, has said it is interested in listing credit derivatives. So has Eurex, the derivatives arm of German exchange group Deutsche Börse. But the prospect of exchanges replacing interdealer brokers as a place for banks and Wall Street firms to lay off risk is more remote than the threat posed by other interdealer brokers. That’s because over-the-counter derivatives are highly customized, with many sets of variable terms that would be difficult for an exchange to standardize for the purpose of listing. (The CME did, however, buy electronic interest rate swap platform Swapstream, for $15 million, in July.)
“Even among the most standardized contracts there are many forms of customization,” says Harrell Smith, manager of research firm Celent’s securities and investments practice. Adds GFI North America chief Fewer, “What exchanges tend to undervalue in the OTC market is the flexibility of term structures and expiration periods.”
GFI must also worry about a potential meltdown in the CDS market. Wall Street and regulatory officials have grown worried over the past few years that trades are occurring too fast for firms to process, causing unconfirmed trades to pile up at an alarming rate. That could leave market participants exposed to changes in their trading partners’ creditworthiness that occur between the execution and confirmation of trades. A group of risk executives at major firms, led by Goldman managing director E. Gerald Corrigan, recommended last fall that the industry automate the processing of transactions. (In a report last month, the ISDA and a group of major brokerages said that the backlog of unconfirmed trades had since been reduced by 80 percent.) And the Depository Trust & Clearing Corp., which clears all U.S. stock trades, is working on creating a single clearing mechanism for CDSs. That, incidentally, could also make it easier for exchanges to list the instruments.
Gooch dismisses talk of any impending crisis, noting that the vast majority of GFI’s transactions are executed as an agent for its customers, meaning that two sides are matched up without GFI putting its capital at risk. He also believes that if a clearing system is created and derivative trades are fully automated, it will ultimately be a major boost to GFI.
“The credit derivatives market could be ten times the size it is today,” he says. Centralized clearing would make it easier for banks to handle greater volumes, while fostering the creation of new products that play off the differences between listed and unlisted derivatives, which a middleman could surely exploit.
Despite his optimism, Gooch continues to look for unexplored markets. He believes that derivatives on asset-backed and mortgage-backed securities will be ripe for interdealer brokerage as they continue to grow. Another candidate is collateralized debt obligations, essentially packages of bonds that are resold to investors, which are also expanding rapidly and close to breaching $1 trillion in outstanding value, according to J.P. Morgan researcher Christopher Flanagan. In the past year Lehman Brothers, Morgan Stanley and Credit Suisse have begun trading a derivative product that references leveraged loans, the cash market for which exceeds $500 billion, according to Loan Pricing Corp.
Then there are markets that have nothing to do with corporate capital. In September, GFI bought 30-person, Englewood, New Jersey–based oil broker Starsupply Petroleum for $15.1 million. In January the firm hired 50 former Refco staffers to open a Paris office that will offer financial futures, equity derivatives and cash equities brokerage. And in March, GFI brought on four brokers in London from ship broker Galbraith’s to start a dry-freight brokerage desk that will allow ship owners to manage future shipping costs. Since 2003, GFI has grown from 397 brokers and 668 employees to 808 brokers and 1,200 total staff.
“The value of having a highly qualified broker,” says the CEO, “cannot be overestimated.” Nor, some might say, can Mickey Gooch.
